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Domestic coal prices set to get higher
With supply-demand conditions tightening across the region, our Global Commodities
team expects regional thermal contract coal prices to increase 42% yoy to US$78 per
tonne in 2008. As Chinese domestic coal prices are trading at large discounts (about
30%) to regional prices and domestic demand from heavy coal end-users continues
to grow at a robust pace, we expect Chinese thermal coal contracts to be negotiated
higher, albeit at a slower pace, due to inflation concerns in China. Over the next few
years, we expect Chinese coal prices to continue to rise until they finally catch up
with the rest of the region.
Marginal tariff hike could happen in 2Q08
With strong earnings reported throughout the power industry in 8M07 (+42%) and
increasing concerns about inflation, our recent visits with regulatory bodies, State
Grid Corp and IPPs confirmed our view that tariff hikes for IPPs will not happen before
end-2007 but rather be postponed to 2Q08, after finalising coal contracts negotiation.
IPPs could mitigate the impact of higher coal prices through expanding with largescale,
highly-efficient generating units, so we expect overall tariff hikes of just 3%.
Earnings growth may only be achievable through capacity expansion
Rising coal prices will continue to put pressure on IPPs' margins. As generation should
remain strong after the commissioning of new projects, we expect high earnings
growth to continue in 2007-09 (19% CAGR for the sector). Amongst the IPPs, we see
potential upside to CR Power's capacity, given that its net gearing of 75% is well
below its target ratio of 150%.
Top picks - CR Power and Datang; first movers in upstream business
We adjust our target prices for the IPPs to reflect: 1) higher coal prices; 2) early
commissioning of greenfield projects; 3) further capacity expansion; and 4) roll over
of our target prices from end-2007 to end-2008. Our top picks are CR Power and
Datang as we believe their earnings growth should remain strong in 2007-09 and
their investments in coal business should keep profit margins high and mitigate the
coal price risks in the long term.
Contents
U T I L I T I E S 5 D E C E M B E R 2 0 0 7 2
V A L U A T I O N C O M M E N T
Investment snapshot 3
Valuations and recommendations 4
We expect the upcoming coal contract negotiations to be a concern for the share
prices of IPPs near term. In the long term, we expect only those IPPs with strong
expansion and integration in coal assets to outperform.
Earnings and target price adjustments 4
Only those IPPs with vertical integration in upstream businesses look likely to outperform 6
Top picks – CR Power and Datang 6
Earnings sensitivity 7
I N V E S T M E N T V I E W
Rising coal prices in 2007-09F 8
Domestic coal prices should rise in 2007-09F. Given the high earnings growth in
the power industry and the government’s concerns for inflation, tariff hikes for
IPPs are unlikely before end-2007; more likely in 2Q08F.
Regional coal prices set to move higher 8
Domestic coal prices should catch up soon 9
Development of large-scale, highly-efficiency power generators to maintain margins 11
Vertical integration - the only way to mitigate coal price risk 12
Capacity expansion to drive earnings 13
Strong power demand growth should drive the approvals of more new power
projects. Given the listed IPPs are the flagship companies of the PRC power
generating groups, they should expand faster than the national average.
Higher-than-expected electricity demand growth in 2007 13
Faster capacity expansion for the listed IPPs 14
C O M P A N Y P R O F I L E S
Company profiles 15
China Resources Power Holdings 16
Datang Intl Power Generation 25
China Power International 34
Huaneng Power International 42
Huadian Power International 48
A P P E N D I X
1. PE band charts 54
2. PBV band charts 55
3. Yield band charts 56
4. Winners & losers 57
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